Small Cap Stocks

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Stocks issued by companies with a market capitalization between $300 million to $2 billion are known as small cap stocks. Market capitalization is estimated by multiplying individual share price with the total number of issuer’s outstanding shares. Classifications of small cap stock or large cap stock change with time. During the 1980s, stocks of any company having a marketcapitalization greater than $1 billion were not considered small cap stocks.

How to Find Small Cap Stocks

To spot small cap stocks, investors can refer to the stock indices on which they are listed:

  • Dow Jones Wilshire Small-Cap Index: It is a subset of the Dow Jones Wilshire 5000 Composite Index that comprises of 5,000 stocks, ranked according to their market capitalization. Shares ranking within the range of 751 to 2,500 are classified as small cap stocks.
  • Russell 2000 Index: It comprises of the smallest 2,000 companies that are included in the Russell 3000 Index, which includes a list of 3,000 prominent stocks. The average market capitalization of companies listed on Russell 2000 stands at $1 billion.
    • S&P 600: Introduced in 1994, the S&P 600 represents around 3%-4% of the US equity market. It ranks the shares issued bycompanies with a market capitalization of between $200 million and US$1 billion.
    • FTSE SmallCap Index: In the UK, investors consult this index, a list of 300 UK-based companies falling outside the purview ofthe FTSE 350 Index.

    Advantages of Small Cap Stocks

    Investing in small cap stocks has the following advantages:

    • High growth potential: Once they gain visibility in the investment circles, the returns on small cap stocks supersede the returns yielded by large cap stocks. Investors who purchased the stocks of companies, such as Wal-Mart or Adobe, when they were small companies made a fortune.
    • Under-recognition: Small caps are under priced. However, it is tough to find them, as they rarely come into the limelight. Thus, identifying a promising small cap stock offers the chance to rake in huge profits in the longer run.
    • Staying ahead of institutional investors: Mutual fund investors have restrictions that contain them from purchasing beyond a certain limit of an issuer’s outstanding stocks. So, they rarely invest in small cap stocks. An individual investor can earnprofits by identifying small cap stocks at minimum rates before the arrival of institutional investors.

    Gathering sufficient information about small cap stocks is the cornerstone of increasing the profit potential. However, this can be difficult, as these stocks are rarely covered by the media or even by analysts. The calculation of financial, profitability and debt ratios has to be done by the investor himself.

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